Investment Club initiates position in Leslie’s pool supply company
Maggie Eastland | Wednesday, December 1, 2021
As a portion of the University’s endowment, Notre Dame’s Investment Club manages a $1.2 million portfolio of long equity positions. The investment club board invests in long equity positions with the intent to sell securities when they reach a higher target price.
In the last Investment Club meeting of the semester, sophomores Kevin Prata, Joe Riordan and Luke Eversole pitched Leslie’s Inc. (NASDAQ: LESL), a swimming pool supply company that hit public markets in 2020.
Leslie’s sells pool chemicals, equipment and recreational items, and the company saw a huge spike in revenue during the COVID-19 pandemic as many families traded their travel plans for pool construction plans.
In the wake of this increase in home pools and the expected future demand for pool care products, Prata, Riordan and Eversole expressed a belief that Leslie’s has continued potential for growth and a more than 30.5% upside. The Investment Club board agreed and decided to initiate a position.
In their investment thesis, the team highlighted Leslie’s position and competitive advantages in the industry, the company’s room for expansion through acquisitions of more localized competitors and current undervaluation due to sell-offs resulting from restricted stock agreements.
Among swimming pool equipment stores, Leslie’s holds more than three quarters of the market, dominating a highly fragmented landscape, the team said. They added that Leslie’s is the only direct-to-consumer pool and spa brand with national scale.
Audience members challenged this assumption by suggesting that Pool Corporation (NASDAQ: POOL) might be a competitor; however, the team maintained that Pool Corporation is not comparable because it has no brick-and-mortar stores and does not address the residential market.
Leslie’s offers online platforms and brick-and-mortar locations to capitalize on e-commerce and in-person sales opportunities. The company also has a mobile app with more than half a million downloads.
“We’re piloting that over 60% of all online pool and spa traffic is captured through Leslie’s digital platform,” Riordan said.
The team said Leslie’s has competitive advantages that will ensure the company continues to gain market share. These advantages include vertical integration that keeps costs low and margins high as well as strong customer relations that drive recurring sales.
Specifically, the team said 80% of Leslie’s sales are recurring, suggesting Leslie’s offers expertise and convenience that keeps customers coming back when they need to service their pools. The team compared the regular sales of chemicals and other needed products to an annuity, or fixed stream of future payments.
“A critical aspect of their business model is customer relations that create annuity-like demand,” Riordan said.
The team added that Leslie’s operating margin is more than double the industry average. They credit this difference to vertical integration, or company control over more steps of the pool supply manufacturing and distribution process.
“Leslie’s is a lot more cost efficient mainly because of its size,” Prata said.
Leslie’s also boasts strong past financial performance with 57 consecutive years of revenue growth and enough earnings before interest, tax and amortization to cover debt twice over.
Despite these advantages, the team said Leslie’s lagged behind the S&P 500, a measure of the overall market’s performance, and the S&P 400, a measure of the consumer services market.
“It’s a pretty bold claim, but we believe there is a market inefficiency,” Prata said. “If you have an opportunity like this you have to ask why the market’s giving you this opportunity.”
Despite record revenues and earnings that beat expectations for the last four quarters, Leslie’s is underperforming the market, and the team said they believe equity issuances related to restriction on when shares can be sold are responsible for this.
They demonstrated how the three dips in Leslie’s price all followed secondary equity offerings — or public sales of shares. The team explained that previous shareholders may have been selling the stock in an effort to make a quick profit but claimed that “the selling pressure isn’t necessarily economic.”
In other words, Leslie’s actual value may be greater than the current share price, creating the potential for investing gains.
Looking to the future, the team highlighted that Leslie’s managers plan to continue merger and acquisition activity, enter the professional pool supplies market, innovate products and continue a push toward sustainability with products designed to conserve water and chemicals.
The team believes Leslie’s will mitigate potential risks, such as substantial debt obligations, potential new competitors, increasing commodity prices and a decrease in demand for pools following the pandemic.
The team predicts revenue will decrease from this year’s high but remain above pre-pandemic levels as pool owners continue to demand supplies for upkeep.
Following the pitch, the Investment Club board decided to buy Leslie’s, adding to their retail industry holdings.
“Even though there are risks associated with any investment, we were ultimately comfortable with them and appreciated the discount Leslie’s was trading at relative to peers despite strong margin and growth profile,” said Jackie Fletcher, an Investment Club board member.
Correction: In an earlier version of this story, The Observer misattributed Joe Riordan’s direct quotes to group member Luke Eversole. The Observer regrets this error.